The government said the mine could damage eight ''upland swamps'', which contain rare plant and animal species, in the catchment area next to the Lake Avon reservoir. It approved the mine on condition the company could provide a compensation package, including protection of nearby swamp habitat and investment in more research.

''Significant cracking is predicted that would lead to diversion of surface stream flow,'' the catchment authority said in its submission on the proposal.

The concern is that five ''longwall'' panels will cause subsidence at the surface, cracking and draining the swamps after the rock strata settles down to fill the void where coal was removed.

The department said it had balanced the likely environmental impact against the expected 400 jobs the mine would bring and said the impact on the city's water supply would be ''negligible''.

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The decision angered conservation groups that have been campaigning against the mine expansion for years.

''Our own consultants consider there is a high risk that surface flow will also be lost,'' said Dr Ann Young, who is on the mine's community consultative committee.

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The company's environmental impact assessment said some leakage of water from swamps could be expected, but the water would probably not sink more than 15 metres below the surface and would reappear downstream.

The Nature Conservation Council of NSW, the Colong Foundation for Wilderness and the Total Environment Centre all said they condemned the mine, based on their observations of the effects of previous longwall mining ventures.

The BHP Billiton subsidiary, Illawarra Coal, said it had carefully designed the mine to prevent any impacts on dams, and had been mining nearby since 2001.